The Commodity Futures Trading Commission proposed rule amendments that, if adopted, would maintain the current swap dealer de minimis level at US $8 billion, as opposed to reducing it to US $3 billion at the end of 2019.
In addition, the Commission proposed to exclude certain swaps from inclusion in the calculation of the swap dealer de minimis level. These would include certain swaps entered by an insured depository institution (“IDI”) in connection with originating a loan under more flexible standards than currently prevail, and swaps to hedge financial or physical positions as opposed to solely physical positions as currently is the case. Conditions would apply to both exclusions.
Under current CFTC rule, a swap dealer includes any person that holds itself out as a dealer in swaps or engages in activity commonly known as a dealer or market maker in swaps, makes a market in swaps, or regularly enters into swaps with counterparties in the ordinary course of business or for its own account (click here to access CFTC Rule 1.3). However, a person is not considered a swap dealer if, during the prior 12 months, it has not entered into swaps with an aggregate gross notional amount (“AGNA”) of greater than US $3 billion. However, this US $3 billion level was subject to a phase-in amount of US $8 billion that initially was set to expire on December 31, 2017, but which has been extended through December 31, 2019. (Click here for background in the article “De Minimis Threshold Formally Extended by CFTC over One Commissioner’s Objection” in the October 29, 2017 edition of Bridging the Week.)
Moreover, under existing rule, certain swaps are already excluded from the calculation of AGNA in determining whether a person exceeds the swap threshold. These include swaps between affiliates, swaps entered into by a cooperative with its members; swaps entered into by floor traders; certain foreign exchange swaps and FX forwards; commodity trade options; and certain swaps entered into by an IDI with a customer in connection with originating a loan to that customer, as well as swaps to hedge physical positions.
Swap dealers are generally subject to a host of internal and external business conduct requirements.
As part of its proposed rule amendments, the Commission also provided that, going forward, the Commission could determine the methodology to calculate the notional amount for any group, category, type or class of swaps, and delegate the authority to make a determination to the Director of the Division of Swap Dealer and Intermediary Oversight. Any methodology, said the Commission, must be "economically reasonable and analytically supported and that any such determination be made publicly available and posted on the CFTC website."
Ancillary to its proposed rule changes, the Commission sought comment on whether it should add minimum dealing counterparty or transaction count thresholds to its de minimis exception as well as whether it should exclude exchange-traded and/or cleared swaps, and non-deliverable forward transactions from the calculation of swaps counted against the de minimis level.
The Commission supported its rule amendments proposal by pointing to statistics showing that the current US $8 billion threshold captures “almost all swap transactions (as measured by AGNA or transaction count),” and that lowering the threshold to US $3 billion would only subject a small amount of additional AGNA to swap dealer registration and could lead to “reduced liquidity” for non-financial commodity (“NFC”) swaps. This could “negatively impac[t] end-users and commercial entities who utilize NFC swaps for hedging purposes,” alleged the Commission.
The Commission voted 2-1 for publication of its proposals, with only Commissioner Rostin Behnam dissenting. Mr. Behnam argued that, in proposing the rule amendments, the Commission “moved far beyond the task before it …to redefine swap dealing activity absent meaningful collaboration with the Securities and Exchange Commission” which he argued was required under the Dodd-Frank Wall Street Reform and Consumer Protection Act. (Click here to access 15 U.S. Code §8302.) Commissioner Brian Quintnez, although voting with Chairman J. Christopher Giancarlo in favor of the proposal, argued that the determination of whether a person should be a swap dealer should be “more closely correlated to risk” than simply relying on an activity-based threshold.
The Commission will accept comments to its proposal through 60 days following its publication in the Federal Register.
My View: Based on the careful analysis by the Commission, there seems little quantitative support for reducing the swap dealer de minimis threshold to US $3 billion. Moreover, the uncertain but potentially detrimental consequences to liquidity and bona fide hedging by small commercial enterprises of making such reduction justify not fixing what’s not broken. Given that one of the primary objectives for Dodd-Frank was to mandate the central clearing of certain swaps contracts just like futures, swaps that are centrally cleared should be excluded entirely from the calculation of the swaps de minimis level or, at a minimum, given some haircut when including them in the calculation.